Is This Tech Giant Ready to Bounce Back?

Shweta is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

With prevailing uncertainty in the macroeconomic environment, and the ongoing debate on the 'Fiscal Cliff,' IBM (NYSE: IBM) has seen a lot of movement recently, with its value down by ~10% in the last month. The stock is currently trading at $190. However, looking at the company's past records I see IBM as a defensive stock. The short term instability in the stock would act as an entry point for the long term investors, given its strong cash flow and persisting revenue growth compared to its peers.

IBM recently increased its share buyback fund by adding $5 billion to this program. Buybacks have been a hallmark of IBM for more than a decade, and the company has spent ~$68 billion in buybacks since 2002. And I expect the company to repurchase shares of $50 billion in the next five years. Over all these years the company has always satisfied its shareholders with good returns, and this is expected to continue into future.

Considering the huge range of products & solutions, IBM has a large number of peers. Let’s look at the company's competition:

<table> <tbody> <tr> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>P/E Ratio</strong></p> </td> <td> <p><strong>PEG (5 yr expected)</strong></p> </td> </tr> <tr> <td> <p>International Business Machines Corporation </p> </td> <td> <p>13.44</p> </td> <td> <p>1.26</p> </td> </tr> <tr> <td> <p>Oracle Corporation <span class="ticker" data-id="204823">(NYSE: <a href="">ORCL</a>)</span></p> </td> <td> <p>14.9</p> </td> <td> <p>0.93</p> </td> </tr> <tr> <td> <p>Microsoft Corporation <span class="ticker" data-id="204577">(NASDAQ: <a href="">MSFT</a>)</span></p> </td> <td> <p>14.34</p> </td> <td> <p>1.03</p> </td> </tr> <tr> <td> <p>SAP AG <span class="ticker" data-id="205363">(NYSE: <a href="">SAP</a>)</span></p> </td> <td> <p>22.42</p> </td> <td> <p>1.53</p> </td> </tr> </tbody> </table>

IBM currently has the lowest P/E ratio of 13.44, followed by Microsoft with its P/E ratio of 14.34. Also, the company's 5 year expected PEG ratio is 1.26, below the industry average of 1.5.

Recently, Microsoft announced that it will invest $100 million in a research center in Brazil. After Germany, Israel, and Egypt, this will be the fourth research lab for Microsoft. The investment in this region will be an important one for the company, as IBM and GE have already opened research centers in Brazil, and Cisco and Intel are also planning to expand in this region.

In terms of its offerings, reach, and scale, SAP AG and Oracle are IBM's closest competitors. SAP has the highest P/E ratio among all, which makes it an expensive stock at this moment. However, its recent collaboration with Accenture to extend its current capabilities and the launch of its six new SAP mobile apps for Windows 8 can be seen as having good potential for growth in future revenues.

Oracle, with the lowest PEG ratio of 0.93, is also an attractive option at this time. Recently Oracle has been very active on the acquisition front and has acquired companies such as Rightnow, Taleo, Selectminds, Virtue, InQuira, etc. I expect Oracle to continue with such acquisitions in order to expand its customer base.

Although all the above-mentioned companies show promising growth aspects, I am currently placing my bet on IBM, looking at its ability to outpace the market.

In the 3Q 2012, IBM completed the acquisition of the human resource management company Kenexa for $1.3 billion in cash. The $4 billion talent management software business is growing every year. This acquisition is IBM’s push to increase its footprint in this market after SAP's acquisition of SuccessFactors and Oracle's of Taleo. Kenexa is a leader in the major segments of this market, offering a broad range of services with a unique combination of cloud-based technology and consulting services, helping companies in their complete talent management. I see many strategic offerings from Kenexa that give IBM an opportunity to grow its presence in the global HR and talent management markets. Some of the areas where Kenexa would provide its support to IBM are Recruitment Process Outsourcing, Talent Management Technology, Employee Assessment, HR Transformation, and Consulting. This acquisition will benefit IBM with an added stream of revenue and a broader set of solutions.

Another acquisition by IBM this quarter was Butterfly Software Ltd., a privately held company specializing in Data Analysis and Migration Software. This acquisition will help IBM enhance its storage software and hardware solutions to help its clients in a better and improved way. The various tools offered by Butterfly Software help companies save space and time, and reduce operational costs. Many business partners have already joined IBM to use these offerings, and looking at this development I expect this move to be beneficial for the company.

IBM posted mixed 3Q 2012 results, with its Analytics and Cloud business emerging as brighter spots for the company. The revenue from its Business Analytics segment was up by 14% YTD. In the last 5 years, IBM has acquired around 30 companies by investing $16 billion in this segment. Looking at the great opportunities in Big Data and Analytics in the technology industry, I consider this segment as a determinant for future growth of the company. I expect IBM to generate ~$16 billion, or 20% of its revenue, from Analytics by 2015. The company also posted positive results in the BRIC nations, with its revenue up by 11% year over year, and I expect this to continue in the future considering the emerging markets' development and growth.

Moving on to company's financial position, IBM generated $3.1 billion in free cash flow. This would be used by the company in greater share buyback activity and dividend declaration. In the last five years, IBM's dividends have grown by 18% annually, and its EPS has also grown 17% annually despite the recession and the slow recovery after it. I believe IBM will largely increase the return to its shareholders given its strong cash returns and a decent payout ratio of 24%. I also expect a huge amount of money going into technology and acquisitions to drive innovation, which would be an add-on to IBM's global scale.

Considering the above mentioned factors, I see IBM as an investor friendly stock ,and hence rate it a buy.


ShwetaDubey has no positions in the stocks mentioned above. The Motley Fool owns shares of International Business Machines, Microsoft, and Oracle. Motley Fool newsletter services recommend International Business Machines and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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